Banking the Takeover Premium

There are several drivers of returns from investing in companies. The main two are from a company growing their earnings over time and from paying dividends to shareholders. But recently in New Zealand we have seen instances of another driver of returns - takeovers. A takeover is the purchase of one company by another and can be rewarding for existing shareholders as the offer price is often higher than the last traded share price. The difference between the offer price and the last share price is what is called a ‘premium’ and it’s usually necessary to entice existing shareholders to accept the offer. The size of the premium can vary depending on a range of factors, but typically at least 20% is needed to entice investors to accept. 

Towards the end of last year there were takeover offers for three New Zealand companies – fast-food chain operator Restaurant Brands, online marketplace Trade Me, and tapware manufacturer Methven. As the chart below shows, the premiums for the recent takeover offers of the three companies ranged between 24% and 43% - a nice kicker for your portfolio. 

To pay this premium and take over a company, the potential buyer will have motivations that they believe justify the payment. The buyer could be an investment company that thinks the current share price doesn’t fully value the company or that the company isn’t performing as well as it should be – and back themselves to make the necessary improvements. It could also be a competing company that wants to merge with the target company and extract synergies or acquire a strategic asset that will improve their own offering.  

There is one drawback to takeovers, however. If the takeover is successful, it means there are fewer companies (or opportunities) listed on the stock exchange for the public to invest in. This is especially meaningful for the NZ stock exchange which only has around 120 companies listed, with most quite small – losing three of the more reasonable-sized companies is not an immaterial number. In saying this, the additional return gained from the takeover premium more than offsets the uncertain future returns if the companies were to remain listed on the stock exchange. Or to put it another way, a bird in the hand is often worth two in the bush. 

Article by Joe Byrne, BA, AFA, DIMS Manager and Chairman of the Lifetime Investment Committee - Read More

Disclaimer: This article has been prepared for the purpose of providing general information, without taking into consideration any particular investor’s objectives, financial situation or needs.  Any opinions contained in it are held as at the report date and are subject to change without notice.  This document is solely for the use of the party to whom it is provided.